Trade Signals — The Weight of Evidence is Bullish for Equities and Bonds; Extreme Bearish Sentiment is S/T Bullish for Stocks

By Steve Blumenthal
October 5, 2016

S&P 500 Index — 2,159

Posted each Wednesday, Trade Signals looks at several of my favorite stock, investor sentiment and bond market indicators.  It is my weekly risk management dashboard, designed to keep me better in sync with the major technical trends.  I hope you find the information helpful in your work.  For informational purposes only… Not a recommendation to buy or sell any security.

“Because for any given level of return, if you diversify, you can generate that return with a lower risk;
or for any given level of risk, if you diversify, you can generate a higher return.
So it’s a free lunch.  Diversification makes your portfolio better.”

— David Swensen, Chief Investment Officer
Yale University Endowment

With a nod towards broad portfolio diversification, following is a quick summary of what I am seeing this week — organized by investment category (equity markets, fixed income and liquid alternatives):

Equity Markets:  The following chart compares the move of the 10-year Treasury yield (top section) to the S&P 500 Index (bottom section).  You can see that the yield is rising above a falling trend line (solid green line).  The S&P 500 has been having trouble gaining traction — failing to break above its 50-day moving average line.  Are rising bond yields beginning to shake investor confidence in stocks?  That is a big risk we face.

All of the gains in the third quarter came in the first half of July.  Since then, the S&P 500 index has been sideways to lower.

As you’ll see below in this week’s Trade Signals charts (below), the stock market indicators remain positive.  Technology is showing strong relative price leadership as are emerging market ETFs.  Financials are benefiting from the rising rate interest rate environment as well.  We are currently overweight those exposures in our CMG Opportunistic All Asset ETF Strategy.

The CMG NDR Large Cap Momentum Index remains in a buy signal, volume demand continues to be stronger than volume supply (more buyers than sellers) and investor sentiment is signaling a short-term bullish environment for stocks.  The weight of evidence supports the continuation of this aged seven-year plus cyclical bull market.  It remains extremely overvalued, thus risk is high.  Have a process in place that allows you to limit downside loss.

Fixed Income:  It is my view that the Fed hikes rates in December and the market seems to be reflecting that concern.  “Two steps and a stumble” is the old guys rule on the Fed.  Meaning the market suffers after two back-to-back interest rate increases.  However, there is much time between now and December.  I’ll be talking about the global and U.S. economy in Friday’s On My Radar along with the most recent valuation charts.  Hint: disappointing growth and an expensive equity market.  A bad combination.

The Zweig Bond Model remains in a buy signal.  Our CMG Managed High Yield Bond Program remains in a bullish up trend.  I believe a once-in-a-generation buying opportunity is approaching for the High Yield market; however, for now our trend following process has us invested in HY funds.

Our fixed income trading strategies use trend following methodologies with the goal to participate in favorable gaining periods (stable or declining interest rate environments) and avoid unfavorable losing periods (i.e., rising interest rates environments).

Click here for our education series piece “Trend Following Works!”

Liquid Alternatives:  The CMG Opportunistic All Asset ETF Strategy is allocated approximately 72% to equities and 28% to fixed income.  We continue to see strong relative price leadership in emerging markets, developed market equities, utilities, technology and biotech.  We have the ability to move 100% to fixed income and cash.

For weightings by asset class, please see the CMG Opportunistic All Asset Strategy pie chart below.  While the gold trend remains cyclically bullish, gold is down 4% this week.  Next support looks to be around $115.  See gold chart below.

---

Following are the most recent Trade Signals:

Equity Trade Signals (Green is Bullish, Orange is Neutral and Red is Bearish):

• CMG Ned Davis Research (NDR) Large Cap Momentum Index-Active Trend: Buy Signal – Bullish for Equities
• Long-term Trend (13/34-Week EMA) on the S&P 500 Index:  Buy Signal – Bullish Cyclical Trend for Equities
• Volume Demand (buyers) vs. Volume Supply (sellers): Buy Signal – S/T Bullish for Equities
• NDR Big Mo: See note below (active signal:  Buy Signal on March 4, 2016 at 1999.99)
• Don’t Fight the Tape or the Fed: Indicator Reading =  -1 (Neutral for Equities)

Investor Sentiment Indicators:

• NDR Crowd Sentiment Poll:  Neutral Optimism (S/T Neutral for Equities)
• Daily Trading Sentiment Composite:  Extreme Pessimism (S/T Bullish for Equities)

Fixed Income Trade Signals:

• Zweig Bond Model: Buy Signal
• CMG Managed High Yield Bond Program:  Buy Signal

Economic Indicators:

• Global Recession Watch Indicator – High Global Recession Risk
• Recession Watch Indicator – Low U.S. Recession Risk

Gold:

• 13-week vs. 34-week exponential moving average:  Buy Signal – Bullish for Gold

Tactical/Relative Strength — CMG Opportunistic All Asset Strategy:

Please click here for more info about the CMG Opportunistic All Asset Strategy.

Following is a more detailed review of the Trade Signals with charts:

1. CMG NDR Large Cap Momentum Index-Active Trend – Buy Signal — The Momentum and Market Breadth Data is signaling bullish for U.S. Equities.

Legend:  S = Sell Signal; B = Buy Signal.  Period is 1992 to present.

NDR Disclosure

You may notice that we’ve modified the CMG NDR Large Cap Momentum Index chart.  You can see there are more buy and sell signals.  The engine of the analysis process remains the same.  It is based on a technique used in technical analysis called market breadth.  The process gauges the direction of the overall market by analyzing the number of sectors advancing relative to the number declining.

• The process measures the underlying strength of the S&P 500 Index by evaluating the trend across 22 sectors that make up the Index and plots the results daily. See the CMG NDR Large Cap Momentum Index line – center of chart.
• In simple terms, a bullish market environment will take many, if not most, stocks and sectors higher. The reverse is true in bear market environments.
• This enhanced version steps out of trades rather than trading 100% in or out. It can go from 100% to 80% to 40% to 0% market exposure.  Think of it as a systematic way to de-risk (raise cash) or re-risk (invest in large cap stocks).
• Here is how the signals work: If the trend across the 22 sectors, as plotted above by the CMG NDR Large Cap Momentum Index line, is higher than it was 42 days ago, the signal is a buy signal. If the trend is lower than it was 42 days ago, the signal is a sell signal.  Simple and straight forward.  We track this in the bottom section of the chart labeled “Composite Direction.”  If it is higher than the red horizontal line, then the trend is positive.  If lower, the trend is negative.
• Next, if the index line is above 70 (an environment where most stocks/sectors are doing well… broad-based positive sector participation), then the signal is always a buy signal (i.e., remain 100% invested). We give a strong equity market trend environment the benefit of the doubt.
• If the CMG NDR Large Cap Momentum Index line is between 60 and 70 and the trend is lower than it was 42 days ago, then the process steps from 100% invested to 80% invested.
• If the CMG NDR Large Cap Momentum Index line is between 50 and 60 and the trend is lower than it was 42 days ago, then the process steps from 80% invested to 40% invested.
• If the CMG NDR Large Cap Momentum Index line is below 50 and the trend is lower than it was 42 days ago, then the process steps from 40% invested to 0% invested. Most of the really bad stuff tends to happen when the majority of stocks are in decline; therefore, the model moves to 100% cash if the Index line is below 50.
• In all cases, if the CMG NDR Large Cap Momentum Index line is higher than it was 42 days ago, the process moves back to a 100% invested position.
• You can learn more here.

The investment objective is to be invested when the overall health of the market, as measured across 22 sectors, is strong and rising and to reduce exposure to the market when the trend is weakening and declining.

Returns, shown at the bottom section of the chart, are hypothetical.  Noted are comparisons to the S&P 500 Index (Total Return) in terms of GPA% (gross percent per annum), Sharpe ratio and max drawdown.  The model did 30% better over times and max drawdown was -19.7% vs. -55.3% for buying and holding the S&P 500 Index.

I like that this process keeps the engine of our original model the same yet is more active (a little quicker to get back into the market) and I like that it scales out of market exposure as the overall trend evidence weakens.

Overall, the process is a disciplined, systematic process designed to reduce risk (raise cash) and systematically increase risk (fully invest).

Click here for additional information about the CMG NDR Large Cap Momentum Index.

2. 13/34–Week EMA Trend Chart:  Bullish Cyclical Trend for Stocks

Note (in the chart below – upper right-hand corner) that the 13-week EMA (blue line) has crossed above the 34-week EMA trend (red line) late first quarter 2016 (a trend buy signal).  The Cyclical Trend for Stocks is bullish by this measure.  You can see that this trend process has done a pretty good job at identifying the major cyclical bull and bear market trends (note small red and blue arrows).  A good stop-loss level may be at the point when the 13-week drops below the 34-week.

Click here to see “How I think about the 13/34-Week Exponential Moving Average.”

3. Volume Demand vs. Volume Supply – Buy Signal (S/T Bullish for Equities)

The process looks at a smoothed total volume of declining issues versus a smoothed total volume of advancing issues using a broad market equity index.  The performance below is when Vol Demand is above or below Vol Supply.  More buyers than sellers or more sellers than buyers.  This is a relatively slow-moving indicator.

• S&P 500 Index Gain/Annum (12-31-1997 to present).
• The yellow highlight in the chart that follows shows the current regime, percent gain per annum and the amount of time since 1997 that the signal was above or below volume demand.

Here is the data from 1981 to present (which includes the great bull market of 1981 to March 2000).  Same conclusion, markets are stronger when there are more buyers than sellers:

NDR Disclosure.  Click here for additional information about the indicator.

4. Big Mo Multi-Cap Tape Composite Model – We have decided to remove this composite data. We believe the CMG NDR Large Cap Momentum Index is a better process and we’d like to avoid any potential confusion.  However, if you would like a copy of the chart, please send me an email reminder each week and I’ll forward a copy to you.  (FYI: Last signal was a “Buy” on 3-4-16 at S&P 500 Index level at 1999.99.)

5. Don’t Fight the Tape or the Fed – Indicator Reading = -1 (Neutral for Equities).  Current reading highlighted in yellow (below).  The indicators that comprise this reading are a combination of NDR’s Big Mo and the 10-year Treasury yield.  It highlights just how important Fed activity is to market performance.  Readings range from +2 to -2.

• Gain/Annum when the combined indicator reading (1999 to present. Current indicator score highlighted in yellow):

Here is a look at the indicator from 1980 to present (including the great bull market of 1980 to March 2000).  Same conclusion.  Don’t fight the Fed or the Tape:

Source: NDR
NDR Disclosure; CMG Disclosure.  Click here for additional information about the indicator.

Investor Sentiment

NDR Crowd Sentiment Poll:  Neutral Optimism (S/T Neutral for Equities).  Current reading highlighted in chart below.  The current weekly sentiment reading is 60.9.  It was 60.9 last week.

• Gain/Annum for the S&P 500 Index (data from December 1, 1995 to present. Current indicator score highlighted in yellow):

Source: NDR
NDR Disclosure.  CMG Disclosure.

Daily Trading Sentiment Composite:  Extreme Pessimism (S/T Bullish for Equities).  Current reading highlighted below.

• The current daily sentiment reading is 38.89.  It was 38.89 last week.
• 1994 to Present (current indicator score highlighted in yellow):

Source: NDR
NDR Disclosure.  CMG Disclosure.

The Zweig Bond Model:  “BUY” – The model is Bullish on L/T Bonds

• Model indicators – process detailed in the upper left section of chart.

Current indicator score highlighted in yellow (bottom right section):

NDR Disclosure; CMG Disclosure.

How to Track the Zweig Bond Model.  Click here for more info about the Zweig Bond Model.

Gold: 13-week vs. 34-week exponential moving average:  Buy Signal – Bullish for Gold

Note the dotted red line on the right-hand side of the chart.  The 13-week trend line crossed above the 34-week trend line.  This signal indicates a new cyclical bull market trend for gold.

♦ If you are not signed up to receive my weekly On My Radar e-newsletter, please subscribe here. ♦

Thank you for your interest in this weekly post.  It is appreciated.  It helps me to stick to a long-term focused, disciplined investment process and I hope it helps you as well.

With kind regards,

Steve

Stephen B. Blumenthal
Chairman & CEO
CMG Capital Management Group, Inc.
Philadelphia – King of Prussia, PA
blumenthal@cmgwealth.com
Telephone: 610-989-9090
Facsimile: 610-989-9092

CMG AdvisorCentral – Educational Pieces and White Papers

Several client educational pieces:

• When Beating the Market Isn’t the Point
• Trend Following Works!
• Correlation, Diversification and Investment Success
• The Merciless Math of Loss (this is about how compound interest works for you and significant loss against you)
• Here is a link to our Advisor Blog page
• Here is a link to our Advisor Resource page

CMG is committed to setting a high standard for ETF strategists.  And we’re passionate about educating advisors and investors about tactical investing.  We launched CMG AdvisorCentral a year ago to share our knowledge of tactical investing and managing a successful advisory practice.

You can sign up for weekly updates to AdvisorCentral here.  If you’re looking for the CMG white paper, Understanding Tactical Investment Strategies, you can find that here.

AdvisorCentral is being updated with new educational resources we look forward to sharing with you.  You can always connect with CMG on Twitter at @askcmg and follow our LinkedIn Showcase page devoted to tactical investing.

Ned Davis Research:

For years, I have subscribed to Ned Davis Research.  They are an independent research firm.  Their clients are institutional (professional) investor clients like CMG.  They are one of the most respected research firms in the business.

They offer several levels of subscription.  You can contact them directly at Ned Davis Research at 617-279-4878 to learn more.  Please know that neither I nor CMG are compensated in any form.  I’m just a big fan of their research and their way of thinking.  As a side, Ned Davis authored one of my favorite books, Being Right or Making Money.  A great book full of sound, practical advice.

Trade Signals History:

Trade Signals started after a colleague asked me if I could share my thoughts (Trade Signals) with him.  A number of years ago, I found that putting pen to paper has really helped me in my investment management process and I hope that this research is of value to you in your investment process.

Every week, I share with you research I find valuable.  No one indicator is perfect, but we believe risk can be assessed and should be managed.  Some of this research helps to shape our thinking around risk management and it helps us think about how we might size various risks within the construct of a total portfolio.  For example, overweight or underweight equities/fixed income and how much one should consider allocating to tactical/liquid alternative exposures (such as managed futures, global macro, long/short equity).  When and what to hedge?  Shorten or lengthen bond maturity exposure?  We believe such risks can be managed and, to us, broad portfolio diversification is important.  If you’d like to talk to us about how we use some of these indicators within our various investment strategies, please email me or email our sales team.

Click here for “The History Behind Trade Signals.”

Investment Process:

From an investment management perspective, I’ve followed, managed and written about trend following and investor sentiment for many years.  I find that reviewing various sentiment, trend and other historically valuable rules-based indicators each week helps me to stay balanced and disciplined in allocating to the various risk sets that are included within a broadly diversified total portfolio solution.

My objective is to position in-line with the equity and fixed income market’s primary trends.  I believe risk management is paramount in a long-term investment process.  When to hedge, when to become more aggressive, etc.

Using Options:

For hedging, I favor a collared option approach (writing out-of-the-money covered calls and buying out-of-the-money put options) as a relatively inexpensive way to risk protect your long-term focused equity portfolio exposure.  Also, consider buying deep out-of-the-money put options for risk protection.

Please note the comments at the bottom of this Trade Signals discussing a collared option strategy to hedge equity exposure using investor sentiment extremes is a guide to entry and exit.  Go to www.cboe.com to learn more.  Hire an experienced advisor to help you. Never write naked option positions.  We do not offer options strategies at CMG.

Visit http://www.theoptionsguide.com/the-collar-strategy.aspx for more information.

Diversification – Suggested Client Talking Points:

A diversified investment portfolio is designed to meet pre-defined investment goals.  It is often hard to stay the course when stress presents.  That is when many investors make mistakes.  Diversification means that not all investment risks perform at the same time.  For example, managed futures and long/short funds have underperformed the last several years but are outperforming recently.  We’d all like to be in the best performing areas all the time, but that is just not possible.

Major market events tend to present one or two times per decade.  It is for this reason that a longer-term view can provide a useful perspective.  We know that many investors incorrectly sold out of the markets during the tech bubble in 2000-2002 and again with record selling at the height of the 2008 great financial crisis.  No one knows exactly how the current distress will play out.

For some time, I’ve been talking about the following: the issues in the high yield bond market, issues that can present post-QE and zero interest rate policy, issues with unmanageable debt in Europe, Japan and China and the issues a rising dollar may trigger as it relates to the $9 trillion in EM debt that was borrowed in dollars.  As much as I’d like to think I do, I don’t know for sure which or how and when any of the above risks present and the degree to which they might play out.

What we can do is build portfolios that are diversified across a number of risk factors and market environments.  We can identify periods in time to become more or less aggressively positioned (overweight when valuations are cheap and underweight when they are expensive).  We can manage risk not only by the collections of ETFs and funds selected but also how we combine them together.  Diversification brings meaningful improvement to portfolios designed to achieve a return objective over a long-term period of time.

I see the world of investing through a lens of risk and reward.  Ultimately, it is far more important to minimize losses than to capture the best gains.  Find me someone or some way to always capture the best gains – impossible, doesn’t exist.  I’m friendly with some of the world’s greatest investors and none of them see themselves as perfect.

Over time, it’s really about understanding the power of compound interest.  To this end, I wrote a paper entitled, The Merciless Math of Loss.

IMPORTANT DISCLOSURE INFORMATION

Past performance may not be indicative of future results.  Different types of investments involve varying degrees of risk.  Therefore, it should not be assumed that future performance of any specific investment or investment strategy (including the investments and/or investment strategies recommended and/or undertaken by CMG Capital Management Group, Inc. or any of its related entities (collectively, “CMG”) will be profitable, equal any historical performance level(s), be suitable for your portfolio or individual situation, or prove successful.  No portion of the content should be construed as an offer or solicitation for the purchase or sale of any security.  References to specific securities, investment programs or funds are for illustrative purposes only and are not intended to be, and should not be interpreted as recommendations to purchase or sell such securities.

Certain portions of the content may contain a discussion of, and/or provide access to, opinions and/or recommendations of CMG (and those of other investment and non-investment professionals) as of a specific prior date.  Due to various factors, including changing market conditions, such discussion may no longer be reflective of current recommendations or opinions.  Derivatives and options strategies are not suitable for every investor, may involve a high degree of risk, and may be appropriate investments only for sophisticated investors who are capable of understanding and assuming the risks involved. Moreover, you should not assume that any discussion or information contained herein serves as the receipt of, or as a substitute for, personalized investment advice from CMG or the professional advisors of your choosing.  To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisors of his/her choosing.  CMG is neither a law firm nor a certified public accounting firm and no portion of the newsletter content should be construed as legal or accounting advice.

This presentation does not discuss, directly or indirectly, the amount of the profits or losses, realized or unrealized, by any CMG client from any specific funds or securities.  Please note: In the event that CMG references performance results for an actual CMG portfolio, the results are reported net of advisory fees and inclusive of dividends.  The performance referenced is that as determined and/or provided directly by the referenced funds and/or publishers, have not been independently verified, and do not reflect the performance of any specific CMG client.  CMG clients may have experienced materially different performance based upon various factors during the corresponding time periods.  Mutual Funds involve risk including possible loss of principal.  An investor should consider the Fund’s investment objective, risks, charges, and expenses carefully before investing.  This and other information about the CMG Tactical All Asset Strategy Fund^TM, CMG Global Equity Fund^TM, CMG Tactical Bond Fund^TM, CMG Global Macro Strategy Fund^TM and the CMG Long/Short Fund^TM is contained in each Fund’s prospectus, which can be obtained by calling 1-866-CMG-9456 (1-866-264-9456).  Please read the prospectus carefully before investing.  The CMG Tactical All Asset Strategy Fund^TM, CMG Global Equity Fund^TM, CMG Tactical Bond Fund^TM, CMG Global Macro Strategy Fund^TM and CMG Long/Short Fund^TM are distributed by Northern Lights Distributors, LLC, Member FINRA.

NOT FDIC INSURED. MAY LOSE VALUE. NO BANK GUARANTEE.

Hypothetical Presentations:  To the extent that any portion of the content reflects  hypothetical results that were achieved by means of the retroactive application of a back-tested model, such results have inherent limitations, including: (1) the model results do not reflect the results of actual trading using client assets, but were achieved by means of the retroactive application of the referenced models, certain aspects of which may have been designed with the benefit of hindsight; (2) back-tested performance may not reflect the impact that any material market or economic factors might have had on the adviser’s use of the model if the model had been used during the period to actually manage client assets; and, (3) CMG’s clients may have experienced investment results during the corresponding time periods that were materially different from those portrayed in the model.  Please Also Note: Past performance may not be indicative of future results.  Therefore, no current or prospective client should assume that future performance will be profitable, or equal to any corresponding historical index (e.g., S&P 500 Total Return or Dow Jones Wilshire U.S. 5000 Total Market Index^SM) is also disclosed.  For example, the S&P 500 Total Return Index (the “S&P”) is a market capitalization-weighted index of 500 widely held stocks often used as a proxy for the stock market.  S&P Dow Jones chooses the member companies for the S&P based on market size, liquidity, and industry group representation.  Included are the common stocks of industrial, financial, utility, and transportation companies.  The historical performance results of the S&P (and those of or all indices) and the model results do not reflect the deduction of transaction and custodial charges, nor the deduction of an investment management fee, the incurrence of which would have the effect of decreasing indicated historical performance results.  For example, the deduction combined annual advisory and transaction fees of 1.00% over a 10-year period would decrease a 10% gross return to an 8.9% net return.  The S&P is not an index into which an investor can directly invest.  The historical S&P performance results (and those of all other indices) are provided exclusively for comparison purposes only, so as to provide general comparative information to assist an individual in determining whether the performance of a specific portfolio or model  meets, or continues to meet, his/her investment objective(s).  A corresponding description of the other comparative indices, are available from CMG upon request.  It should not be assumed that any CMG holdings will correspond directly to any such comparative index.  The model and indices performance results do not reflect the impact of taxes.  CMG portfolios may be more or less volatile than the reflective indices and/or models.In the event that there has been a change in an individual’s investment objective or financial situation, he/she is encouraged to consult with his/her investment professionals.

Written Disclosure Statement.  CMG is an SEC registered investment adviser principally located in King of Prussia, PA.  Stephen B. Blumenthal is CMG’s founder and CEO.  Please note:  The above views are those of CMG and its CEO, Stephen Blumenthal, and do not reflect those of any sub-advisor that CMG may engage to manage any CMG strategy.  A copy of CMG’s current written disclosure statement discussing advisory services and fees is available upon request or via CMG’s internet web site at http://www.cmgwealth.com/disclosures/advs.